Another Supply Shock For Oil

I am of the generation that dealt with the energy shocks of the 1970s. I recall my father waiting in long lines to get a small allocation of gasoline for his very large car, and then paying exorbitant amounts for it. Late in that decade, the American President recommended turning down thermostats and donning sweaters to prepare for the “moral equivalent of war.” Heavy industry was hollowed out, and took many years to recover.

At the time, there were calls for a long-term energy strategy that would seek modest costs, security of providers and diversity of sources. Amid this year’s myriad energy shocks, it is clear that reconciling these aims is still a substantial challenge. My recent trips to oil producing areas in the Middle East and the United States underscored this point.

It is hardly of the scale of the 1973 embargo implemented by the Organization of Petroleum Exporting Countries (OPEC), but last week’s announcement of oil production cuts will introduce discomfort to a range of nations. Inflation is at excessive levels, and falling gasoline prices were providing some relief. With oil prices higher by 15% already this month, that dividend is probably going to disappear.

Normally, higher prices are an invitation to additional production, but the ability of other suppliers to offset OPEC cuts is limited. Several nations with large reserves are the subject of international sanctions, and others have limitations caused by poor infrastructure. But the United States has also not been in a position to ramp up its output.

At one point prior to the pandemic, America had become the world’s leading source of petroleum. But since the onset of COVID-19, American production has lagged. We had thought that oil had become a “spigot business” where taps could be opened and closed with a minimum of fuss; that has not proven to be the case. Domestic daily output is still one million barrels per day lower than 2019 levels, despite prices that are above prior estimations of extraction costs.